Gross Income

Updated on April 19, 2024
Article byWallstreetmojo Team
Edited byAshish Kumar Srivastav
Reviewed byDheeraj Vaidya, CFA, FRM

Gross Income Meaning

Gross income is the total remuneration of an entity before deductions and taxes. This includes salary, rent, and interest. Therefore, the gross profit of an organization is calculated by deducting the cost of goods sold from its sales revenue. After deductions and adjustments, an individual or a business finds its net income.

Gross Income Meaning

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The annual gross income is an important metric used by lenders. Before sanctioning personal, auto, or mortgage loans, lenders screen applicants’ debt to income (DTI) ratios. Gross earnings represent the financial health of a firm. This metric is also important for computing the taxable income of an individual.

Key Takeaways

  • Gross income or gross earnings is the aggregate earnings of an individual before taxes; this includes salary, interest, commission, rent, profit, dividends, and capital gains.
  • For a company, it refers to the gross profit generated by a business from the sale of goods or services. When a firm’s gross profit is calculated, all non-operating expenses are excluded. Only production-linked expenses are taken into consideration.
  • Gross earnings are an important metric in financial analysis. It is used for analyzing a firm’s financial condition, operational efficiency, and profitability. Gross earnings assure lenders and landlords that the borrower can repay the credit.

Gross Income Explained

Gross income is the same as gross profit, gross earnings, or taxable income. However, the metric has different contexts for individuals and organizations. It is the gross total of an individual’s earnings in each period before acknowledging deductions and taxes. This is inclusive of salary, commission, rent, interests, and dividends.

This metric is crucial for computing the taxable income of an individual. First, the adjusted gross income (AGI) is determined. AGI is computed by subtracting above-the-line deductions from gross earningsGross EarningsGross earnings of the company refer to the amount left over out of the total revenue generated by the company from the sale of its goods during a particular accounting period after deducting the cost of the goods sold but before deducting the other expenses, taxes, and the adjustments incurred by the company during that period.read more. Then, various below-the-line deductions are made from the AGI to acquire the taxable income. This includes exemptions and rebates, if any. Further, employers intimate, The Internal Revenue System (IRS) of their employees’ income details. Employers file a W-2 form, i.e., the Wage and Tax Statement Form.

Investors and stakeholdersStakeholdersA stakeholder in business refers to anyone, including a person, group, organization, government, or any other entity with a direct or indirect interest in its operations, actions, and outcomes.read more assume that if a firm is turning a profit, it must be running efficiently. This is why gross earning is an indicator of a company’s profitabilityProfitabilityProfitability refers to a company's ability to generate revenue and maximize profit above its expenditure and operational costs. It is measured using specific ratios such as gross profit margin, EBITDA, and net profit margin. It aids investors in analyzing the company's performance.read more. It is an essential factor that stakeholders use to judge a firm’s performance.

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Formula

The formula for calculating and making gross income adjustments vary for individuals and firms. Let us understand the formulae for both these entities through the detailed explanation below.

For Individuals:

Gross Income = Salary + Interest + Dividends + Rent

For Companies:

Gross Income = Revenue – Cost of Goods Sold

Gross Earnings

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How To Calculate?

To calculate the annual gross income, it is important to determine the basic factors such as the basic income streams and expenses, after which, the methods explained below can be used to calculated using the formula.

For Individuals:

The gross earnings can be evaluated by aggregating the following components:

  1. Salary or Wages: It is the total pay offered by an employer to an individual. If such compensation is allowed hourly or daily, it is termed as wages.
  2. Rent: Gross earnings also include rental earnings from residential or commercial properties
  3. Dividends: The dividends on preference shares and bondsBondsBonds refer to the debt instruments issued by governments or corporations to acquire investors’ funds for a certain period.read more are also considered as income.
  4. Interest: The interest received on deposits and loans is considered a part of gross earnings.
  5. Capital Gain or Loss: The profit or loss made by an individual on the sale of capital assets or property comes under gross earnings. This includes houses, land, buildings, and valuables.
  6. Income from Other Sources: All other means of earnings also come under gross earnings. These include pensions, alimonyAlimonyAlimony is court-ordered financial support given to a spouse in case of divorce or separation and is given to the spouse with a lower level of income or no income at all.read more, prizes, lotteries, and gifts.

For Companies:

The gross profit of companies can be calculated by reducing the cost of goods sold from the entity’s revenue.

  1. Revenue: It is the total sales proceeds that a company generates in a given period.
  2. Cost of Goods Sold: COGSCOGSThe Cost of Goods Sold (COGS) is the cumulative total of direct costs incurred for the goods or services sold, including direct expenses like raw material, direct labour cost and other direct costs. However, it excludes all the indirect expenses incurred by the company. read more refers to the direct cost incurred for the production of goods. It includes the cost of materials, labor, packaging, and freight.

Both these components are found on a firm’s income statementIncome StatementThe income statement is one of the company's financial reports that summarizes all of the company's revenues and expenses over time in order to determine the company's profit or loss and measure its business activity over time based on user requirements.read more. All the non-operating expenses are excluded, and only production-linked expenses are considered during computation. Non-operating expensesNon-operating ExpensesNon operating expenses are those payments which have no relation with the principal business activities. These are the non-recurring items that appear in the company's income statement, along with the regular business expenses.read more are the expenses that are not related to the principal activities of a business. They are usually stated on the company’s income statement.

Examples

Let us understand the concept of gross income adjustments and its other intricate details with the help of a couple of examples.

Example #1

A company engaged in the sale of motor parts earned a revenue of $10,000 during the year.  The company incurs the following expenses during the year.

Solution:

Given,

  • Raw Material Cost: $3,000
  • Labor Wages: $4,000
  • Sales Commission: $500

Calculation of Cost of Goods Sold can be done as follows.

Gross Profit Example 1 a

COGS formula = Raw Material + Labor Cost + Sales Commission

= $3,000 + $4,000 + $500

= $7,500

Calculations:

Gross Profit Example 1 b

Therefore, Gross Profit = $10,000 – $7,500                                              

=$2,500

Example #2

A company involved in a trade of goods managed to earn a revenue of $12,000 during the year. The company’s books of accounts list the following.

  • Opening stock: $300
  • Closing stock: $250
  • Purchases: $3,000
  • Wages: $5,000
  • Salaries: $4,000
  • Interest: $1,000
  • Freight: $500

Solution:

Calculation of Cost of Goods Sold can be done as follows.

Gross Profit Example 2 a

COGS = Raw material + Labor cost + Freight

COGS = (Opening Stock + Purchases – Closing Stock) + Labor Cost + Freight

           = ($300 + $3,000 – $250) + $5,000 + $500

           = $8,550

It is to be noted that salaries and interest expensesInterest ExpensesInterest expense is the amount of interest payable on any borrowings, such as loans, bonds, or other lines of credit, and the costs associated with it are shown on the income statement as interest expense.read more will not form part of COGS as these are not directly related to the production of goods.

Calculation

Total Revenue Example 2 b

Thus, Gross Earnings = $12,000 – $8,550

= $3,450

Example #3

Gary Bowser, an individual with a pivotal role in selling Nintendo switches through a hacking-scheme admitted his role in the crime in November 2021. The court had instructed Bowser to pay a hefty sum of $10 million to Nintendo for damages caused.

Out of the amount owed to the victim, only $175 had been paid until 2023. However, the accused agreed to pay 25-30% of his gross income to settle the large sum owed to the victim. Following health issues, the accused was released early and instructed to continue paying the fines on a monthly basis.

Importance

Gross earnings adjustments are a vital piece of information for the parties looking forward to associating with a new entity and for regulators to scrutinize the information provided by individuals and entities during yearly filing of taxes. It serves the following purposes for an individual:

Knowing the gross profitGross ProfitGross Profit shows the earnings of the business entity from its core business activity i.e. the profit of the company that is arrived after deducting all the direct expenses like raw material cost, labor cost, etc. from the direct income generated from the sale of its goods and services.read more of a business is equally essential for the following reasons:

Gross vs. Net Income

Both annual gross income and net income play important roles in their own right. However, it is important to understand the differences in their fundamentals and implications. Let us understand the differences through the comparison below.

Net income represents the profit left after reducing the indirect expensesIndirect ExpensesIndirect expenses are the general costs incurred for running business operations and management in any enterprise. In simple terms, when you want to buy grocery from a supermarket, the transportation cost to get you to the supermarket and back is the indirect expenses.read more such as salary, rent, interest, and rent. Gross Earnings = Revenue – COGS.
Whereas, Net Income = Gross Earnings – Expenses.

The former represents the income earned from the main business. Whereas the latter reflects the net profit of the company after reducing all expenses. Thus, net income is not limited to direct expenses.

Income statements show revenueRevenueRevenue is the amount of money that a business can earn in its normal course of business by selling its goods and services. In the case of the federal government, it refers to the total amount of income generated from taxes, which remains unfiltered from any deductions.read more and cost of goods sold, followed by gross earnings. Net income is revealed after other expenses and is a bottom-line item in the balance sheet.

If a company’s net incomeNet IncomeNet Income formula is calculated by deducting direct and indirect expenses from the total revenue of a business.. It is the most important number for the Company, analysts, investors, and shareholders of the Company as it measures the profit earned by the Company over a period of time.read more is less than the gross income, the company needs to cut other expenses (indirect costsIndirect CostsIndirect cost is the cost that cannot be directly attributed to the production. These are the necessary expenditures and can be fixed or variable in nature like the office expenses, administration, sales promotion expense, etc.read more). The net income recognizes other incomes, like interest incomeNterest IncomeInterest Income is the amount of revenue generated by interest-yielding investments like certificates of deposit, savings accounts, or other investments & it is reported in the Company’s income statement. read more and dividend income. This is unlike gross earnings.

Frequently Asked Questions (FAQs)

How is Adjusted Gross Income calculated?

Adjusted gross income (AGI) is computed by subtracting various deductible expenses (interest on a loan, tuition fees, etc.) and contribution (health insurance, life insurance, retirement plan, etc.) from the gross earnings of an individual. Therefore, it is denoted as follows.
Adjusted Gross Income (AGI) = Gross Income – Adjustments.

Does gross income include tax?

The gross earnings do not account for any taxes; it is the total earnings before subtracting taxes and deductions. Gross earnings are the aggregate earnings of an individual from salary/wages, commission, interest, rent, and dividends. For a firm, the gross profit is acquired after subtracting the cost of goods sold from the sales revenue.

Do home loans depend on gross income or net income?

The home loan providers such as banks and other financial institutions prefer gross earnings. They choose this over net income. They use gross earnings as a metric to compute the debt-to-income ratios (DTI) of borrowers. Lenders use the metric for gauging borrowers’ ability to repay.

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